Managing the Modern Treasury a Presentation to the Financial Executives International by Bruce C

Managing the Modern Treasury A Presentation to the Financial Executives International by Bruce C. Lynn, CTP August 15, 2018 Agenda

 The traditional role of corporate treasury

 Why treasury’s scope needs to change

 Key policies and procedures for the modern treasury function

 Best practices for the modern global corporate treasury

 Making it happen – transitioning from traditional to modern

 Q & A, discussion

8/15/18 © The Financial Executives Consulting Group LLC 1 The Traditional Treasury • Focused on Processing • Resources devoted to repetitive tasks

Advanced Risk Planning Goals Mgt (Mkt, Credit, Ops)

Cash Management (focus on balances) InvestmentCash Debt

Basic Cash Accounting Processing (focus on posting, reconciling transactions)

8/15/18 © The Financial Executives Consulting Group LLC 2 The Traditional Treasury

• Number of S & P companies using cash flow metrics is low • % of time spent on “strategic” activities is low

S & P 500 Free Cash Flow (FCF) Mention % Year in 10K Defined? D =423 2002 38 19 9

2007 79 28

2012 94 46

2017 121 61 29

Source: Georgia Tech Financial Analysis Lab Report - April 2018; Source: Business of Treasury 2018, Association of ProEDGAR Online Database, www.pro.edgaronline.com/ Corporate Treasurers (ACT) 8/15/18 © The Financial Executives Consulting Group LLC 3 Polling Question 1

Q1 - Is Your Company Considered "Investment Grade“ by a rating agency or bank?

Not Sure, 17% Yes, 34%

No, 49%

8/15/18 © The Financial Executives Consulting Group LLC 4 The Traditional Treasury (2)

Key Metrics Used 2017 Sales Sales Treasury Department Success 2014 All < $ 1Bn > 1Bn Reduced Borrowing Costs 58% 63 57 69 Liquidity Targets 55 62 57 66 Reduced Banking Expenses 51 49 43 53 Risk Management Effectiveness 49 39 42 38 Capital Structure Support 47 55 46 63 Income Generation 28 32 37 28

• Metrics are mostly P & L oriented • 51% of Treasuries feel organization NOT using its capabilities* • 36 % Treasuries NOT part of executive committee or “C suite”*

Source: AFP 2017 (344 responses) p10, p11, p24 / 2014 p11, p12 (243 responses) Strategic Role of Treasury Surveys

8/15/18 © The Financial Executives Consulting Group LLC 5 The Traditional Treasury (3)

Source: 2017 AFP Strategic Role of Treasury Survey, p3

8/15/18 © The Financial Executives Consulting Group LLC 6 The Traditional Corporate Treasury (4)

 Daily cash management operations • Obtain yesterday’s bank transaction data, identify exceptions, update A/R and A/P records • Prepare today’s cash worksheet, identify borrowing/investment levels, execute transactions • Heavy transaction processing workload

 Bank Relationship Management • Maintain lists of banks, contacts and accounts • Periodically review / negotiate credit facilities • Monitor activity / fees via account analyses

8/15/18 © The Financial Executives Consulting Group LLC 7 The Traditional Corporate Treasury (5)

 International Support • Execute FX spot and forward transactions • Assist foreign units to set up pools, netting, etc. • Managed as a separate unit within Treasury • Limited knowledge of tax impacts of treasury activities  Capital Markets • Support CFO in negotiations for public debt issues • Limited knowledge of alternative markets / instruments • Intercompany borrowing opportunistic and uncoordinated  Treasury personnel have limited experience • Treasury staff recruited from banking/cash/accounting background; mostly domestic, not involved in the business • Promotion usually internal; Treasury staff have low visibility and rarely move into non-financial functions

8/15/18 © The Financial Executives Consulting Group LLC 8 The Traditional Corporate Treasury (6)

 Bottom line • Treasury viewed as a processing (not strategic) unit or cost-center -> value added seen as low • Limited planning or policy responsibilities • Problems are solved rather than prevented • Highly dependent on spreadsheets, emails and multiple bank systems because:

 Treasury systems not priority for corporate IT

 No integrated views of global cash position or future liquidity needs (i.e. forecast) • Low headcount - “outgunned” by Controllers or other financial or operating units

8/15/18 © The Financial Executives Consulting Group LLC 9 Polling Question 2

Q2 - Key Issues To Confront Your Company in 2019

70%

60%

50%

40%

30%

20%

10%

0% Maintaining / enhancing Delivering operating Ability to access Measure “success” on a Not sure / too soon to revenue profits across all "enough" liquidity risk adjusted basis tell business units

8/15/18 © The Financial Executives Consulting Group LLC 10 Why Treasury needs to change

 External factors • Competitive nature of business = 24/7 demands “global cash visibility” and alternatives in the capital markets (i.e. do I have enough of the “right” credit?) • Demand for interaction with key corporate customers – “my AR is your AP”; not all customers are profitable • More complex/unpredictable financial markets

 New US tax laws – increases after tax debt costs, limits interest expense deductibility

 More complex transactions – Use of derivatives expands the need for pro-active management of FX, interest costs, commodities

 Activist investors seek “best” use of cash (or give it back!) • Regulatory or accounting changes, e.g. Brexit, Basel III (liquidity ratios), lease accounting (leases are debt too)

8/15/18 © The Financial Executives Consulting Group LLC 11 Need for Change – External Trends

Rates increasing now that Jerome Powell is Chairman (6 FT)

8/15/18 © The Financial Executives Consulting Group LLC 12 Need for Change – External Trends

Rates going higher: More borrowing = more cost

8/15/18Source: JP Morgan Asset Mgt, Guide© to The Mkts,1Qtr18 Financial Executives Consulting Group LLC 13 Need for Change – External Trends

FX rate always uncertain

Stronger Euro +15% = More expensive to fund in USD

8/15/18 © The Financial Executives Consulting Group LLC 14 Need to change – Internal Factors

 Internal factors • International business and associated interco. FX risks have become more visible • Quality of a company’s financial management is increasingly recognized as a key competitive factor • 70%+ senior management seeks focus on liquidity, risk and working capital management (per 2017 AFP survey) • Skills from FX hedging programs can be applied to other risk management issues • Keeping up with the competition = strategic views needed

 Acquisitions - Improving market means higher prices?

 Best use of funds - CAPEX vs Debt Repay?

 Cash - Use it or “lose” it (i.e. payouts to investors)

8/15/18 © The Financial Executives Consulting Group LLC 15 Need for Change – Internal Trends How much liquidity is “enough” ?- sources

Companies still liquid, but due to ops or borrowings?

Companies stillCompanies liquid still liquid

Earnings coverage lower => ?how to cover maturing debt

Source:8/15/18 JP Morgan Asset Mgt, Guide to© Mkts,1Qtr18. The Financial *Other Executives financings Consulting = C/P, Group municipal LLC securities, mortgages, loans 16 and advance Need for Change – Internal Trends How much liquidity is “enough” ?- uses

More cash to Investors = less “left over”?

8/15/18 © The Financial Executives Consulting Group LLC 17 Source: JP Morgan Asset Mgt, Guide to Mkts, Dec 2017,1Qtr18 Need for Change – Internal Trends

How 1,500much risk (debt / free cash flow) is “too much”?

1,319 1,300 Snapshot - S & P 500 Non Financial Companies (425 co.) (Selected Results - 12 months ending 3/31/18)

1,100

900 Varies by Industry: Tech = ok. Services? Utilities? 731

700 633 604 s 576 542 500 $ in Billion in $ 350 370 304 300 252 252 200 220 175 186 166 139 78 83 73 87 80 91 74 100 67 48 66 38 31 27 23 32 15 4 4 1 1 16 18 9 12 -3 s s s al ca y e y n s d e r -23 tie ial o at ic tio tili -100 er - Energ h Ca -51 rta U l Go m Cycl ita lo r 06 12 - p ng e 09 - Services nspo Ca Tra - Co r Non-Cycli 08 - Healt 2 - onsum 1 - 01 - Basic Mater 0 03 C ume - Technolog 1 ns 0 04 - 1 - Co 05 Working Capital Total Debt S/T + L/T Cash + S/T Inv Free Cash Flow 12Months

8/15/18 © The Financial Executives Consulting Group LLC 18 Need for Change – Internal Trends Treasury to CFO: We may not have “enough”? 5,000 450

4,500 S & P Non Financial Companies ( 423 companies ) 400 Quarterly Trends as of 3/31/18 4,000 350 Debt 3,500 300

3,000 250 2,500 Cash trend flat; free cash flow trend 200 2,000 down. How much cash is enough? 150 $ in Billions in $ 1,500 Cash Cash Flow ($in Billions) ($in Flow Cash 100 1,000

500 50

0 0 QTR8 QTR7 QTR6 QTR5 QTR4 QTR3 QTR2 QTR 31Mar18 Cash + S/T Equiv. Total Debt S/T + L/T EBITDA Free Cash Flow Cash Flow Ops

8/15/18 © The Financial Executives Consulting Group LLC 19 Why Treasury needs to change (2)

 Consider this near term scenario : • Your competitor has highest cash levels in 5 years giving them CAPEX, R & D options • Your debt / equity ratios are steady (but that “can” kicked down the road is still there) • Market forces cannot be controlled  “Guarantee” of low interest rates has ended • Bad news : variable rate debt to cost more • Good news : higher earrings on invested cash  No assurances FX rates will remain stable  Floating NAV or other restrictions limit MMFs  Is Treasury equipped for this scenario? • Measuring “success” is key? • What outcomes will determine it? • What metrics to use? (Hint: Fee Cash Flow)

8/15/18 © The Financial Executives Consulting Group LLC 20 Why Treasury needs to change (3) The Role of Treasury Today

Top 10 (of 21) Leads Supports

Borrowing long term (capital funding / sourcing) 79% 6 Investing – long term 61 15 Payment Strategy & Execution (in / out) 60 24 Working Capital Mgt 54 28 Capital Planning / Allocation 50 31 Counterparty Risk Analysis 49 24 Internal Financial Consultant 40 36 Insurance Purchasing 38 28 Leasing 37 27 Insurance claims Mgt 31 30

Sources: 2017 Strategic Role of Treasury, p11 8/15/18 © The Financial Executives Consulting Group LLC 21 Why Treasury needs to change (4) The Role of Treasury Today

Bottom 10 (of 21) Leads Supports

Employee Benefits 748 Supply Chain Mgt 10 46 Business Development 11 50 Accounting / SEC Compliance 15 50 Business Continuity Planning 19 45 Retirement Management 21 44 Mergers & Acquisitions 22 50 Assessing Financial Technology 24 42 Financial Planning & Analysis 27 53 Enterprise Risk Management 28 44

Sources: 2017 Strategic Role of Treasury, p11 8/15/18 © The Financial Executives Consulting Group LLC 22 Polling Question 3

Q3 - How Mature is Your Company's Treasury Department? 40%

35%

30%

25%

20%

15%

10%

0% Foundational (no fulltime Developing (i.e. Established (centralized Enhanced (work closely Strategic (uses liquidity or centralized resources) traditional) w/ resources) with businesses) and risk metrics to measure “success”)

8/15/18 © The Financial Executives Consulting Group LLC 23 Overview of the Modern Treasury Function (1)

 Treasury should be a strategic unit that adds significant value to the corporation by: • Increasing automation of routine cash/banking transactions • Shifting workload from transaction processing to strategic analysis/decision making • Centralizing global funding/banking/FX (but leave execution local) • Focus on forecasting and future events • Develop “success” metrics (e.g RAROC or “risk adjusted returns to capital”)  Treasury becomes pro-active • Become a problem solving resource for business units • Takes economic ownership of the cash flow statement making operating, investment and financial cash flows • Broader career opportunities become available as staff becomes knowledgeable about global cash flows

8/15/18 © The Financial Executives Consulting Group LLC 24 Model for the Modern Treasury Function (2)

Debt Management

Financial Company Markets Cash Risk & & Management Management Operating Institutions Units Investment Management

• Policies Highly Visible • Functions & Systems integrated • Interactive Communications • Performance Metrics in Place to • Plan, Actual & Forecast in Sync Demonstrate Value

8/15/18 © The Financial Executives Consulting Group LLC 25 6 Key Activities for the Modern Treasury

1. Global oversight of for liquidity and risk 2. Maintain access to sufficient funding at all times 3. Risk management role expanded beyond FX/IR 4. Internal consulting and information resource for corporate management and business units 5. Reduce processing costs and bank charges 6. Actively participate in major company initiatives, e.g. strategic planning, IT, compliance, M&A

8/15/18 © The Financial Executives Consulting Group LLC 26 1. Global oversight role

 Formulate, document, distribute and update enterprise wide policies/guidelines • Liquidity management (internal & external) • Intercompany transactions and loans (allocation) • FX/IR risk management • Bank selection and counterparty risk

 Works effectively with other company units: •Operating  Enforces the use of standard market rates

 Establish currency of billing rules for intercompany and 3rd party trade transactions

 Forecasts encourage liquidity to focus on future business, not just accounting for activities that have already happened • Financial  Tax - Optimizes capital structure and after tax cost of funds  Controllers - Standardize rules for settlement of intercompany transactions

 Bottom line – More planning, less processing • Treasury is in the funding business • Resources best spent on future activities to control risk

 Funding has suddenly emerged as a challenging issue for many companies • Traditional external funding sources now unreliable or “pricey”  Bank loans, CP, IPO, equity issues, long term bonds  Term loan waivers not routinely granted • Risk of shortfalls in sales volume and pricing • Minimal interest income on surplus cash • Counterparty risks now much more important  Consider “make or buy” decisions to access internal liquidity • Tighter control of A/R and A/P (i.e. working capital) • Centralize then utilize surplus cash more quickly (daily, not monthly)

 Treasury must make itself the focal point for risk analysis and management within the corporation • Acquired FX/IR skills give Treasury a firm foundation to manage other market or credit risks e.g. commodities, employee option programs, “enterprise risk management” • Risk management is a key component of strategic planning  Treasury’s forward-looking orientation complements Controller’s “backward look” based on historical GL data  Senior management needs analysis of future P&L impacts

 Risk analysis and management is a sophisticated function • SEC rule 33-9089 (Board must disclose its role in risk) will require more highly educated staff with quantitative skills • Support will require upgrades and utilization of specialized software. • Even a TMS may not “work”

 Treasury can work with business units to: • Increase P&L by upgrading working capital mgt, applying improved techniques and benchmarks • Identify market exposures and hedging alternatives, and analyze cost/benefit strategies

 Analyze FX impacts on product pricing strategies, e.g. currency of billing, fixed price lists

 Hedge manufacturing costs, e.g. metals, energy, oil, sugar/cocoa/coffee etc. • Analyze customer credit risk and develop better customer financing programs

 How treasury can do more with less • External cost control  Rationalize bank account structures - companies have too many accounts, which create excessive “maintenance” bank fees  Replace paper based services with electronic services e.g. EFT, check imaging, purchase or T&E cards • Internal cost control  Automate daily bank and cash operations - e.g. treasury workstation as single platform for cash, debt activities across multiple banks  Move to portals for managing FX or investments reducing need to process multiple paper statements, spreadsheets on FX contracts, etc.  Improve forecasts to shorten cash conversion cycle • Emphasize AR collections to increase funds in • Balance with AP disbursements to time funds out • Require intercompany settlements to reduce borrowings, FX needs?

 Treasury needs to interact within the company at least as much as with financial institutions • Works closely with

 FP & A – cash flow forecasts (bottom up = top down?)

 Tax on global capital structures and cash repatriation strategies • Inter Company borrowing – why are the “children” borrowing? • Should be an active contributor to major corporate initiatives, e.g. ERP updates, M&A, SOX compliance, China strategy, SS Center ops • Provides important information to business units via treasury intranet (i.e. TMS)

Q4 - What Issues Constrain Company's Ability to Move From Traditional To Modern Treasury? 70%

60%

50%

40%

30%

20%

10%

0% Lack of technology (i.e. Staff levels / training Success metrics do not Business and financial None – we have a too many spreadsheets) within treasury consider liquidity or risk units (treasury, FP&A, modern / strategic tax, etc) do not “play treasury well together” when setting goals

 Seek a good plan then execute it well • Step 1 - Start with the most important • Top 3 from FECG’s “Treasury Issues 2018” survey (Q15):

Activity (1 to 5 Scale: 1 = high) Rating Rating 2018 2017

Improve Cash Forecasting Capability 2.1 2.2 Improve Liquidity (internal + external) 2.4 2.5 Manage Working Capital 2.5 2.5

Send CAPEX Decision Accounting to Operating entries to G/L Borrow (Book Cash) Forecasted Receipts

By Organization by period Price & FX Exposures Buy Negative? (Non functional currencies) Actual Data Buy? (by bank) Issue Collect Hedge + Invest. Bal. & Prev. + Curr. Sum Data Review No ? Transfer Transactions Cash Day exposures? Instructions + actual + forecasted Transactions Position To Debt cash flows Balances 3rd Parties + Rates Bank Etc Transactions + Sell? Bank Balances By Organization by period Price & + FX Exposures Mkt Rates Sell (Non functional currencies) Positive ?

Get Confirms, CAPEX Create reports Decision (Treas. Cash) Operating to Front Forecasted Middle Invest Office Disbursements Office Back Office

 Create clear written policies, updated regularly

 Define performance measurement criteria • “What gets measured gets managed”

 Normal business concept (e.g. P&L, ROI, stock price)

 Adopt measures of liquidity and risk (rarely attempted in corporate treasury today) • Benchmark treasury vs. peer companies

 Rotate staff between finance and business units • Have staff to visit principal business units at least annually, especially international • Require staff to follow a continuing education program

8/15/18 © The Financial Executives Consulting Group LLC 36 Make it Happen: Transition plan Top 10 tasks to transition from “processor” to “planner” (ranked easy to hardest) 1. Rationalize bank network 2. Set target balances at banks 3. Re-bid bank services to obtain market prices 4. Work with other units to establish joint goals (e.g. working capital?) 5. Upgrade treasury technology

6. Set up pooling or netting arrangement at international locations 7. Create in-house bank 8. Obtain analytical tools to measure risk 9. Imbed & reward liquidity and risk performance measures into corporate planning processes 10.Work with business units as “internal consultants”

 FECG Contact Information • www.thefecg.com

 Bruce Lynn • Phone: 203-655-4806 • Email: [email protected]